The Law Of Diminishing Marginal Returns

  • Total Product (TP) This is the total output produced by workers
  • Marginal Product (MP) This is the output produced by an extra worker

Definition: Law of Diminishing Marginal Returns

Diminishing Returns occurs in the short run when one factor is fixed (e.g. Capital)

If the variable factor of production is increased, there comes a point where it will become less productive and therefore there will eventually be a decreasing marginal and then average product

This is because if capital is fixed extra workers will eventually get in each other’s way as they attempt to increase production. E.g. think about the effectiveness of extra workers in a small café. If more workers are employed production could increase but more and more slowly.

This law only applies in the short run because in the long run all factors are variable

Assume the wage rate is £10, then an extra worker Costs £10.

The Marginal Cost (MC) of a sandwich will be the Cost of the worker divided by the number of extra sandwiches that are produced

Therefore as MP increases MC declines and vice versa

A good example of diminishing returns includes the use of chemical fertilizers- a small quantity leads to a big increase in output. However, increasing its use further may lead to declining Marginal Product (MP) as the efficacy of the chemical declines.

Diagram of Diminishing Returns



Difference between diminishing returns and dis-economies of scale.

Diminishing returns relates to the short run – higher SRAC. Diseconomies of scale is concerned with the long run. (Diseconomies of scale occurs when increased output leads to a rise in LRAC)

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Page created by: Tejvan Pettinger,November 28, 2012